Guarantees

• Published date: 26 February 2021
• Subject Matter: Finance and Banking, Corporate/Commercial Law, Transport, Financial Services, Corporate and Company Law, Contracts and Commercial Law, Marine/ Shipping
• Law Firm: Reed Smith (Worldwide)
• Author: Mr Roberto Peroni and Gemma Adams

This blog post explores the different ways of drafting guarantees and how this interacts with the obligations of parties within the shipping industry.

What is a guarantee?

A contract of guarantee is an undertaking given by one party (the guarantor) to another party (the beneficiary) to pay the principal obligor's debts or to perform their obligations set out in the underlying contract. A guarantor has a secondary obligation to the beneficiary and therefore the guarantor will typically only be obliged to act where there has been a breach of the underlying contract. Whilst the commercial reasons behind a guarantee are often straightforward, the use of the word "guarantee" including the fact that the term "guarantee" is also frequently used to refer to other arrangements, such as contracts of indemnity (the difference between these terms is explored further below), and the differing ways in which guarantees are drafted, often leaves scope for ambiguity. Such ambiguity can be problematic for a beneficiary trying to enforce the provisions of their agreement.

When might a guarantee be required?

Guarantees are prevalent within a variety of arrangements within the shipping industry entered into between parties including shipowners, shipbuilders, charterers and financiers. Guarantees can be drafted widely to encompass a broad range of obligations or focus on a particular obligation, and can be limited or extensive in their duration. A party may insist on the provision of a guarantee for a series of commercial reasons including; (i) to encourage the primary obligor to meet their contractual obligations; (ii) to give the beneficiary additional comfort that it will be able to fully enforce its claims should a contractual breach occur; and (iii) to encourage the supervision of the primary obligor by a parent company.

There are several types of guarantee that may be entered into between parties. The below examples are common within the shipping industry:

(A) Refund guarantee

A refund guarantee is a common feature of a shipbuilding contract. A buyer may start paying the contract price in installments before taking delivery of the vessel. They may therefore require the builder to provide a refund guarantee (often from a bank or insurance company), so that they can recover these payments if the vessel is not delivered as per the terms of the contract.

(B) Corporate guarantee

Parties to a charterparty or a shipbuilding contract may enter into a corporate guarantee, whereby...